Philip Klein: Obama's ill-conceived cigarette tax hike

As part of his budget released last week, President Obama grasped onto a familiar crutch for desperate politicians when he called for a hike in the federal cigarette tax. On paper, the revenue stream is supposed to finance a new universal preschool program, but the justification for the tax goes up in smoke upon closer examination.

Cigarette taxes and other so-called sin taxes have spread in recent decades because they're an easy way for government to promise benefits for the population as a whole by targeting a minority of the population that is perceived as doing something bad.

It isn't the first time that Obama has gone down this road. In 2009, he raised the federal cigarette tax from 39 cents to $1.01 to finance the expansion of the State Children's Health Insurance Program, or SCHIP. His new proposal would raise it again, to $1.95 -- representing a 400 percent increase over the course of his term. This is on top of state and local cigarette taxes.

From an ideologically neutral and pure policy perspective, cigarette taxes are a lousy way to raise money. One reason is that, if they're effective in encouraging people to quit smoking, the revenue generated from such taxes will shrink over time.

This is borne out by the White House's own tables from Obama's budget, which show that the cigarette tax is expected to peak at $10 billion in revenue raised in 2015, but decrease for the rest of the decade until it reaches $6 billion in 2023, the end of the projection period. Making the financing claims more precarious is that the cost of the universal preschool program that Obama is proposing with the proceeds of the cigarette tax is projected to grow over time.

So, at first glance, the 10-year cost of the education program is paid for by cigarette taxes. But that's only because in the first five-year period, the cigarette taxes are generating more money than the cost of the education program. However, in the final five-year period (2019-2023), the White House projects that the education program will cost $57 billion, while the cigarette taxes will raise only $34 billion. That funding gap will only grow wider over time.

Additionally, the higher the cigarette taxes are, the larger the black market. In Washington state, which has some of the highest cigarette taxes in the country, about 35 percent of the cigarettes purchased in the state last year were done so illegally, costing the state $376 million in potential revenue, according to a report by the state's Department of Revenue.

Illegal smuggling has become a lucrative business, with some organized crime rings raking in millions by moving cigarettes across state lines. A hike in the federal tax would create incentives for more smuggling from Mexico.

For Obama, who constantly talks about asking the rich to pay their "fair share," the obsession with hiking cigarette taxes is especially ironic, because cigarette taxes are among the most regressive taxes on the books. Lower-income Americans are more likely to be smokers than higher-income Americans -- and those who cannot quit can see a hike in cigarette taxes seriously eat into their earnings.

A study from RTI International released last fall found 34 percent of Americans with incomes less than $30,000 were smokers, compared with just 12 percent of those earning more than $60,000 per year. In New York, which has among the highest cigarette taxes, smokers earning less than $30,000 per year spent nearly a quarter of their income on cigarettes. In contrast, smokers earning more than $60,000 allocated just 2 percent of their income to funding their habit.

Thankfully, Obama's proposal doesn't stand a chance of passing through the Republican-controlled House of Representatives. But it is a telling example of the emptiness of his budget proposals.